Small rise in interest rates would actually help stocks

Author: Brendan Boyd

Published: August 29, 2004

When interest rates rise, it has a negative effect on stocks. But it depends on how far they rise, and why. According to Prudential strategist Ed Yardeni, it would actually help most stocks if Treasury yields rose to 5 percent because it would suggest that the economy is strengthening and corporate profits will soon follow.

-- Non-Middle East oil sources have begun to peak, and the cost of finding significant reserves has climbed rapidly, says Utility Forecaster newsletter (1750 Old Meadow Road, McLean, VA 22102). "In this environment, you've got to be big to survive. And no one is bigger in any industry than the six companies that dominate world oil production. All six have an unbeatable combination of long-term growth, steady dividends, safety and relatively low share prices: BP, ChevronTexaco, ConocoPhillips, ExxonMobil, Royal Dutch Petroleum, Total Fina Elf."

-- Dividend reinvestment plans (DRIPs) allow investors to buy more shares of the stocks that sponsor them directly, without paying brokerage fees. Almost 800 large U.S. companies now have DRIPs, and their median yield is 2.5 percent, almost double the yield of the S&P 500. According to AAII Journal (625 N. Michigan Ave., Chicago, IL 60611) seven DRIP stocks recently yielded 3.5 percent or more: Altria Group, Jefferson Pilot, Schering-Plough, BB&T, Donegal Group, Provident Bankshares, Sara Lee.

-- The Bush administration doesn't believe that budget deficits affect interest rates. The Brookings Institution begs to differ. William Gale, Brookings' senior fellow and co-director of its Tax Policy Center, recently concluded that a projected rise in the deficit of 1 percent of GDP sends long-term rates up as much as 1 percentage point.

-- The past five years have been tough on U.S. stock funds. The 10 largest have returned an average of just 0.9 percent annually to their investors since 1998. But six funds that specialize in small stocks have returned more than 20 percent annually to their investors over that same period, says Lipper Analytical: Turner Micro Cap Growth (plus 32.6 percent), Morgan Stanley Small Company Growth (25.5 percent), Wasatch Micro Cap (24.1 percent), Bjurman Micro Cap Growth (23 percent), Bridgeway Ultra-Small Company (22 percent), Bridgeway Micro-Cap (20.8 percent).

-- One way to capitalize on the dollar's continuing weakness is to find an investment that moves in the opposite direction. Gold fits that description. Merrill Lynch research shows that over the past 10 years, gold has had a correlation of minus 0.84 to the dollar -- not quite perfect, but close. While the dollar dropped 23 percent vs. the euro for the two years through last September, gold climbed roughly 30 percent, and gold mutual funds on average exploded for gains of just over 100 percent.

-- Investing in stocks ranks only fourth as a preferred method of accumulating wealth, say those who should know. According to the latest U.S. Trust Survey of Affluent Americans, the richest 1 percent say that these factors were "extremely important" to their wealth accumulation: corporate employment (41 percent), family-owned business (37 percent), professional practice (36 percent), securities (33 percent), real estate (26 percent), inheritance (5 percent). Investor's Notebook is a digest of investment opinion from the world's leading financial advisers. It does not recommend any specific investments, and no endorsement is implied or should be inferred. For more information, contact the individual firms cited.